Indications grow that market bottom may be forming

NoneMidland Reporter-Telegram

Published 7:00 pm, Saturday, August 20, 2011

Thrill seekers need not head to a theme park this summer when they can simply turn to the stock market, which continues on a tremendous roller-coaster ride. Following the worst week in more than a year, the stock market trumped it with a free fall last week and its worst performance since November 2008. The S&P 500 declined 7.2 percent and the Dow Jones Industrial Average (DJIA) declined 5.8 percent. In simple terms, investors lost their confidence, and large and small market participants alike headed for the exits, not only in the United States but around the globe. The Wall Street Journal summed it up well this past weekend when it said the global sell off was fueled largely by the unfinished business left by the debt crisis, spiraling fears of contagion in Europe, disappointing U.S. economic news and renewed worries about overlooked questions like future growth in China.

We said last week in our discussion of the new debt ceiling legislation that the devil is in the details. In this case, the detail that seems almost assured to bring more drama in Washington in the coming weeks is the stipulation that the next round of cost savings/revenue enhancements must be determined no later than November. The drama has already started with a new twist: Congressional finger pointing resulting from Standard & Poor's (S&P) deeming the deficit reduction in the legislation too skimpy and dramatically, although not totally unexpectedly, downgrading the nation's debt rating from AAA to AA+ with a negative outlook.

There were high hopes for the Federal Reserve meeting this Tuesday, and equity investors greeted the outcome positively, triggering a 429 point rally by the end of the session. The Fed acknowledged that economic growth has been slower than the Open Market Committee had expected. Also, a somewhat slower pace of recovery is expected in the next few quarters, and downside risks have increased. This news initially spooked investors into thinking that the Fed might have a more dire outlook than it is letting on, and hence, the news could be a potential negative for stocks. The market did like the Fed's commitment to hold short term rates at low levels through at least mid-2013. Policymakers also stated that they are prepared to employ additional tools as needed to promote stronger growth while keeping inflation in check.

The dramatic stock market decline on August 8th, the worst one day loss for stocks since December 2008, underlined the rapid drop in investor confidence. It extended the S&P 500's decline to 11 days and the pullback to approximately 17 percent. These are the types of environments where stock market bottoms have typically formed. The market is very oversold, and pessimism is extreme after the marke's sharp drop in the two weeks. Market volume has risen sharply over the past three sessions to levels now consistent with past significant market bottoms. The VIX index or "fear gauge" - the label given to the Chicago Board Option Exchange (CBOE) Volatility Index measures how much investors are willing to pay for options to protect against stock market declines. This index spiked to 49 on Monday, which signals a very high degree of fear and a level consistent with past stock market bottoms. These are all characteristics that one looks for when the market is reaching climactic selling preceding an upturn. Unfortunately, we can never know the exact timing or level of the bottom. But there are indications that it's in the offing.

Market volatility like we have seen in the past two weeks is never easy for investors to experience. The market's action as of Tuesday's close says that investor sentiment has reached a point where it may fully reflect all the negative factors for the time being. Our bottom line advice is that short term investors should begin to add to equity positions.

Past Performance is no guarantee of future results. Portions of this article were produced on August 10, 2011 by Scott Marcouiller, Wells Fargo Advisors Chief Market Strategist. Wells Fargo Advisors did not assist in the preparation of this article, and its accuracy and completeness are not guaranteed. The opinions expressed in the report are those of the authors and are not necessarily those of Well Fargo Advisors or its affiliates. The material has been prepared or is distributed solely for informational purposes and is not a solicitation or an offer to buy any security or instrumental to participate in any trading strategy. Additional information is available upon request (432)684-7335 Standard & Poor's bond credit ratings: AAA - Have the highest rating. Ability to meet principle and interest payments is extremely strong. AA+ - Vary from the highest rating in a small degree. Ability to meet principle and interest payments is very strong. VIX - Market Volatility Index is an index designed to track market volatility as an independent entity. The index calculated based on option activity and is used as an indicator of investor sentiment, with high values implying pessimism and low values implying optimism. Wells Fargo Advisors LLC., member SIPC is a registered broker dealer and a separate non-bank affiliate of Wells Fargo & Company. Investments and insurance products: NOT FDIC-Insured NO Bank Guarantee MAY Lose Value